The bears are coming out of the forest again after only a couple days of market declines. We are facing that age-old question of market top or market rest?

Market Statistics

Friday was a boring day for economic reports with Mass Layoffs for October and State Employment the only two reports and neither are really watched by the market. Unemployment rose in 29 states in October and fell in 13 states. California unemployment rose to 12.5% and Michigan is 15.1%. However, both California and Michigan joined with Texas to produce the most new jobs for the month. That sounds like a contradiction of terms to have unemployment rates rise but also produce the most new jobs but that is what the reports said.

The Mass Layoff report was more encouraging with the number of layoffs involving 50 or more workers dropping to 2,127 in October compared to 2,561 in September. The number of workers affected fell to 217,182 from September's 248,006. This report is showing a significant improvement and is at the lows for all of 2009. The business sector seems to be producing more jobs but the government sector is still losing jobs at a dramatic rate as tax revenue projections continue to decline. The number of state and local government layoffs has more than doubled since Oct-2008.

Layoff Chart

Next week is a holiday week and there are no reports on Thr/Fri. All the normal reports have been moved forward to Tue/Wed making both days very busy. The key reports for the week are the Chicago Fed National Activity Index on Monday, GDP revision, the Richmond Fed Survey and the FOMC minutes on Tuesday. Wednesday has the Kansas Fed Manufacturing Survey. The two most important events for the week are the GDP revision and the FOMC minutes.

The GDP revision is now expected to fall to +2.9% growth in Q3 from the initial estimate of +3.53%. Any material decline worse than 2.9% would be negative for the markets. The FOMC minutes for the November meeting will be released at 2:PM on Tuesday. These will probably provide the most market volatility of the entire week. This is the inside look at what the Fed was thinking when they met to determine rate policy on Nov-3rd. We know what the FOMC statement said but the thinking behind it will be released on Tuesday.

Economic Calendar

Friday's option expiration trading was dominated by the pall Dell Computer cast over the market with their earnings miss. Dell missed on both earnings and revenue and gave less than exciting guidance. For Dell to miss earnings estimates by a nickel and not prewarn means there is trouble in Austin. Dell either thought they would suffer less in the stock market with a miss rather than a warning or the situation is deteriorating so fast that the gravity of the earnings decline caught them off guard. They are losing market share, their margins are suffering and they are way behind on their previously announced billions in cost cuts. Dell used to be a well-oiled machine but now it appears they have sprung a leak and lost traction in that spreading oil slick. Dell stock fell -10% on Friday and succeeded in tanking the Nasdaq.

Dell is also experiencing difficulty in its acquisition of Perot Systems and there are rumors they will try to make some more acquisitions to combat their falling market share. Nearly a dozen analysts released cautious comments on Dell suggesting that the current failure to execute could last for several quarters. However, analysts from Citigroup, Wells Fargo, Raymond James and Bernstein made somewhat favorable comments suggesting Dell would be a late cycle performer because they were heavy in enterprise computing and Windows 7 was a retail product. However, Michael Dell said Windows 7 would produce a large upgrade cycle with PC sales well into the mid teens of growth but it could be long term over the next 18 months.

Dell Chart

Hewlett Packard is the new Dell. Dell beat HP like a drum for years and eroded HP market share every quarter like a flesh eating bacteria that could not be eradicated. Now the tables have turned and HP is regaining that market share at twice the rate they lost it. HP is executing on all cylinders and expanding in multiple segments. They recently announced an acquisition of 3Com and bought EDS, Perot's original company, in 2008. HPQ has already preannounced their earnings of $1.14 per share beating estimates by a penny. Their official earnings announcement is Monday after the close. You can bet they will pick apart the Dell comments over the weekend and craft an earnings release announcement that says all the right things to keep Dell investor sentiment in the dumpster.

S&P said last week that HPQ is gaining market share in PCs, servers, printers and IT services. In other words they are eating Dell's lunch. HP's 2010 revenues are expected to be $119 billion compared to Dell's $60 billion. Dell is not even number two in the PC business any more with that spot being claimed by Acer last quarter.

HPQ Chart

It was a tough week for tech stocks with Dell's disaster following a major downgrade of the chip sector by Merrill Lynch on Thursday. BAC/Merrill downgraded INTC, TXN, MRVL, LSI, MXIM, NSM, POWI and MCHP to underperform from neutral. Underperform is typically equated to a sell rating. BAC said inventories have been replenished and inventory levels in the supply chain were approaching an overshoot condition. The semiconductor sector was knocked for a loss on Thursday and again on Friday thanks to Dell but the actual damage was not that bad.

Semiconductor Index Chart

The homebuilder sector was also knocked for a loss on Friday after DR Horton (DHI) reported a 73-cent loss and far worse than analysts expected. DHI took a $192 million charge for impairments and writedowns on land contracts it canceled. In one breath they were whining about pricing power, the high unemployment rate and weak economy. A paragraph later they bragged that Q4 orders rose by +26% and cancellations were no longer increasing. The confusing earnings statements saw DHI stock fall -15% for the day.

DHI Chart

The homebuilders got a bump higher from the Toll Brothers earnings in early November and Friday's DHI miss may have knocked them for a loss but the sector held that loss to a minimum with the HGX down only -2.5% for the day.

Housing Index Chart

Homebuilder ETF Chart

Rumors over an Etrade/Ameritrade wedding gave ETFC a big boost this week. Well, it may have been only 10-cents but to a $1.50 stock that is a big boost. Ameritrade CEO Fred Tomczyk told Reuters late Wednesday that he would consider acquiring Etrade if the price was right. That is old news, very old news. Ameritrade has said for several years that they would be interested if Etrade was willing to meet them at the altar. The problem is Etrade's $10 billion in mortgages and $8 billion in home equity loans. If you bought Etrade you would have to mark down the value of those loans and put up reserves to compensate. That would tie up billions in capital until the loans matured or were sold. Analysts believe that home equity loans would have to be marked down to 60-cents on the dollar.

Since the mortgage bankers association said on Friday that 10 of every 100 home loans was now delinquent there is little interest on the part of any financial company to acquire loans for more than pennies on the dollar. Citadel Investment Group owns 20% of ETFC and bought $3 billion in asset-backed securities from ETFC for $800 million in late 2007. Maybe they are in the market to take the mortgages of their hands as well if the price is right. That would free up AMTD to make an offer for ETFC. Time will tell.

Etrade Chart

Only one bank was closed on Friday. That was the Commerce Bank of Southwest Florida and it became the 124th fatality of 2009. The cost to the FDIC fund was $23 million.

Is it time to unwind the dollar trade? That is what many analysts are saying as the dollar refuses to break support at 75 on the dollar index. The "short the dollar, long commodities" trade has lasted for several months and analysts are warning that unwinding this trade could be violent because of the untold billions at risk. Currencies and commodities can move exceptionally quickly and those traders who don't pull the trigger at the first sign of trouble could take huge losses. Personally I believe the dollar will fall further but there could be several periods of adjustment where weak players are jostled out by violent short squeezes. Any short squeeze in this trade will crush commodities like oil and gold.

You may remember the Exxon CEO last week saying that $20-$25 of the price of oil is related to the dollar trade. If that dollar support was suddenly removed we could easily see $60 as the price of oil. I would personally be thrilled because it would produce some excellent long-term entries for energy plays. I am going to be recommending some long-term portfolio entries beginning January 1st and $65-$67 oil would be a perfect entry point. Unfortunately the equity market would also implode on a short squeeze in the dollar so be prepared.

Dollar Index Chart

Crude Oil Chart Expired December Contract

Offshore drillers were down on Friday after Mexico's Pemex said output had declined -7.5% since January. Exports have fallen -13% since January. The oil company contracts 44 offshore drilling rigs and they are running out of places to drill. Diamond Offshore (4), Ensco (5), Nabors (9), Noble (13) and Seahawk (2) are the major rig providers to Pemex. I suspect it is not that they are running out of places to drill but running out of cash to pay the drillers. More than 50% of Mexico's budget comes from oil exports and -13% is a huge drop for a country already in the red. Add to that the drop in price from $125 in Q3 of 2008 and the red ink really begins to flow.

Chart of HAWK

The high unemployment and low gasoline demand is crushing refiners. Valero said on Friday it was permanently closing the Delaware City refinery in New Jersey due to lack of demand. They had been attempting to sell the refinery but found no takers. The refinery had a 210,000 bpd capacity and had been operating a 40% of capacity just to keep the systems operating. The plant employed 550 and Valero will take a $1.8 billion charge. The plant was started in 1956 and specialized in heavy, high sulfur crude.

The DOE said consumption of gasoline fell -3.2% for 2008. Tony Haywood, CEO of BP said last week that the U.S. will never return to the peak gasoline demand of 2007 because of mandated higher efficiency engines and greater use of biofuels. Tony, I disagree simply because we add 150,000 new workers every month and add 20 million to the population every ten years. Efficiency will save some gasoline but adding nearly 2 million workers a year will also create additional demand. Valero also idled the 145,000 bpd Eagle Point refinery and closed indefinitely the 275,000 bpd refinery in Aruba.

Valero Chart

I wrote last week about the 400% rally in the Baltic Dry index since the December lows. The Baltic Dry index is how shippers calculate costs to move products by ship around the world. It is really an indicator of China's economy rather than the health of other countries. China ships in raw materials and ships out products all around the world. The spike in shipping rates is directly related to the demand for ships. However, and you knew there was a however, I heard a new wrinkle to the story on Friday. The rate is determined purely on supply and demand. Over the next 18-24 months the available ships will rise from about 400 to over 1000. These new ships are currently being built in shipyards around the world in response to the peak in shipping rates because of lack of supply in 2008.

The rate to charter a Capesize ship hit $234,000 per day in May 2008. That same rate declined to less than $40,000 in December and is now back over $81,000. That spike in rates caused a flood of orders for new ships and those ships will start delivering in mid-2010 through 2011. The Capesize ship is a specific size vessel and just an example here. At the beginning of 2009 there were only 35 new ships available with 170 on order. That on order total has risen to over 300 to date. How many will actually be delivered is uncertain given the drop in rates. The point to this story is this. The Baltic Index is an indicator of China's economic activity BUT I would love to have a way to short that indicator as we move into mid-2010. Depending on how many new ships will be delivered, roughly 800 of all sizes according to best estimates, the price to ship dry cargo is going to drop significantly. If you know of a vehicle to short the Baltic Dry Index please let me know. Until mid-2010 I still believe the shipping companies I mentioned last week should provide some long opportunities. Once those new ships begin to appear I would switch to shorting opportunities.

Baltic Dry Index Chart

I know about the ETF SEA, which tracks the Delta Global Shipping Index. That is not the same as the Baltic as you can tell by comparing the two charts. The Baltic reflects shipments in coal, iron ore, grains and feed while SEA also tracks liquid carriers like oil tankers. I am sure one way to short the Baltic would be to short the actual dry bulk carriers like DRYS, DSX and NM to name a few. They are flying high now but their time in the spotlight is going to expire.


SEA Components

Gold hit a new high this week at $1153 an ounce and it could go higher if the dollar does not rebound soon. Rob Lutts of Cabot Management said central banks are mulling further investment into gold reserves. He quoted Mexico, Russia and the Philippines as having bought gold recently as well as that 200 metric tonnes purchased by India. With currencies devaluing many countries are looking at gold as a reserve instead of the dollar. Lutts is predicting $1350 gold once the IMF announces the sale of the second half of their hoard. They sold half to India and they are taking bids on another 200 tonnes. The IMF said if no country bid for all they would sell it on the open market. That event could definitely depress prices temporarily while a single buyer would send prices soaring. Of course the falling dollar is still the key to keeping prices higher in the short term.

Gold Chart

Volume on Friday was again the worst since Oct-12th and it is probably not going to get any better next week. The week of Thanksgiving is typically one of the lowest volume weeks of the year. That means any market-moving event is likely to be exaggerated in the light volume. Despite the light volume and nearly flat markets on Friday the A/D line was negative with 3741 decliners to 2741 advancers. Friday was the third day of declines and the major indexes slipped back to initial support but that support did not break. Considering it was option expiration I view that as a positive sign.

The Dow was relatively well behaved thanks to gains by MRK, KO, MCD, JNJ, BA and PFE. That those stocks were positive should be a clue. Investors were looking for safe havens with low volatility in case of a future decline. Still, regardless of the reason the Dow managed to cling to initial support at 10300. That was solid resistance just a week ago and it took us four days to break above it. 10400 and the top of the uptrend channel proved to be too hard to crack but closing above 10300 gives us an easy shot at a second attempt at 10400 next week.

Thanksgiving week is normally bullish. Whether it is the onset of holiday cheer or simply investors taking time off from work are spending it in front of a PC shopping for stocks as well as holiday presents. Of course we are not normally resting on the top of a +60% rally from the years lows. How that might play out is unknown. There is also the risk that some positions might be sold to fund the holiday spending since the home equity ATM is out of cash.

If investors did decide to take profits the real support on the Dow would probably be in the Dow 10,000 range after a pause at 10200. I am not predicting a decline but simply pointing out that 10200 and 10000 are likely targets if one occurs. We are still at the mercy of the dollar rather than a liquid market. The three days of declines were mild and they came exactly where you would expect at overhead resistance. No harm, no foul, so far.

Dow Chart

I apologize in advance for the cluttered chart on the S&P. There are so many converging support and resistance points that it looks like a Rorschach inkblot test for chart readers. The S&P has pulled back below 1100 after failing to advance after three days above that level. The breakout essentially failed but without a decline below initial support. This is typical when a critical resistance area is breached the first time. There are always sellers waiting above any critical level. That is what produces the resistance. How the index reacts to that resistance is the key. In this case the spike to 1110 held for three days without failing and without a further advance. That suggests the buyers and sellers were evenly matched. The gap down on Thursday morning was dollar related and helped by the downgrade of the entire chip sector. In other words the stalemate was broken by external events.

The decline stopped abruptly at 1085-1090 and the battle for dominance began anew. Here the outcome was aided by the expiring options and the need for market makers to pin stocks to their max pain levels so the most options would expire worthless. Expiration Fridays are rarely high range days as the market makers defend their positions.

The key for the S&P for next week will be to defend support at 1085. A break of that support will suggest that buyers are tiring and we could see a larger retracement. We don't want this to happen because a decline into month end could be painful. This is normally a bullish period so I do not expect a further decline but that is just my opinion. There is a growing wave of bearish sentiment that could turn ugly if there is the slightest bit of confirmation in the form of a support break. One analyst said late Friday that a rising number of fund managers were parking money in short-term money funds in anticipation of a decline. I don't really have any way to confirm or refute that statement but it suggests some feel the market has run its course.

S&P Chart - 120 min

S&P-500 Chart - 30 min

The Nasdaq composite did not fail at any specific resistance level. It was bushwhacked by the chip downgrade and the Dell earnings disaster. Nasdaq 2200 is relative to the Mar, July and Sept 2008 levels but the real number for those resistance points was 2150. It kind of depends on how you split the hairs on the chart. I personally believe the failure on Thursday was the chip downgrade not some year old resistance.

The most crucial number on the chart today is 2140. If that support level breaks we could easily see the Nasdaq trade down sharply to possibly 2050. This is one of those times where earnings are over, economics are negative and the only thing really powering stocks higher is hope for the next six months. In times like that it is easy to lose sight of the future goal when the alligators are snapping at your heels. I am sure there are some fund managers out there whose bonuses are still at risk. They are probably getting pretty nervous. Hopefully Hewlett Packard's earnings and guidance on Monday will re-inflate the tech bubble.

Nasdaq Chart - 120 Min

Nasdaq Chart - Daily

As usual there is a fly in our soup. The fly in this case is still the Russell small cap index. This is the fourth quarter and small caps are supposed to be out performing. Instead they are under performing. I have written this a dozen times in the last several weeks but it is still true. This under performance is suggesting that fund managers are still afraid of the market. This is the canary in the coalmine and it is bearish.

However, all is not lost. The major indexes are not led by the Russell. The big cap generals are currently leading and the Russell troops are following. Unfortunately they are following so far back that the generals will not have any firepower if a battle develops. The troops are lagging because investors in small caps are scared to add to positions.

Russell 2000 Chart

I am cautiously bullish as long as the Russell remains above 580. If that level breaks I would head to the sidelines and wait. Further support exists at 560 and again at 550 but once the tide turns I would lean bearish under 580.

It is that time of year again and we are readying the End of Year Renewal Special. We have been through some tough times over the last year and not all of them were the market. The management company of the last three years folded and I regained total control of the Option Investor publications. We are still picking up the pieces but the worst is behind us.

Instead of producing the same old promotion for the year-end renewal I am reviewing reader interest in all the newsletter products plus the addition of some new publications. I am going to be sending out an individual survey for each of the newsletters we currently publish. I would appreciate your frank and honest responses on each survey. They are each specific to the individual newsletter so you may get several different ones. Each survey only has about 10 questions and should not take more than a couple minutes to complete. I will take your responses into account when I build the renewal package.

I also have a survey on Option Investor that I would like everyone to complete this weekend. It is very important that you answer honestly and promptly so we can make decisions about Option Investor and some new publications. The link is below. Please complete it over the next 48 hours. Thanks in advance for your cooperation.

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Jim Brown